The SportsFolio Journal - March 25, 2021

NFT Update

The Museum of Mahomes has done quite well. 

Mahomes pulled in approximately $3.7 million by selling his NFT collection. Mahomes Magic went for almost a quarter-million dollars.  

Meanwhile, the bidding is over for Jack Dorsey’s first tweet as well. It went for $2.9 million. It was this tweet:

Where does this stuff happen? There are many platforms, and we can’t cover it all in one issue, but let’s start with one: Valuables. For now, the Valuables platform focuses on tweets. This is where Jack Dorsey’s NFT went to its new owner, Bridge Oracle CEO Sina Estavi. Not much is known about Estavi. Here is one article. Here is another

In any event, he is clearly bullish on the JDFTNFT, also known as Jack Dorsey First Tweet NFT. 

Will Estavi mint an NFT of this tweet? That’d be interesting. Then the buyer of that could tweet about it and mint his. You can create an infinite loop like that. 

Fantasy aside, if one is willing to speculate on an NFT tweet, the first tweet of the founder of Twitter may actually not be a bad choice. There might always be one person who is willing to pay more for this NFT, and maybe Estavi will laugh all the way to the bank 10 years from now.

But is he investing?

According to Valuables FAQ, he is.

Why would I pay to own a tweet?

Owning any digital content can be a financial investment, hold sentimental value, and create a relationship between collector and creator. Like an autograph on a baseball card, the NFT itself is the creator’s autograph on the content, making it scarce, unique, and valuable.

The question itself is misleading. You actually don’t own the tweet. You bought a digital certificate of the tweet. But we give Valuables a pass on this one, because they explained it in the previous question. In context, we don’t think a reasonable person reading this FAQ would actually think they owned the tweet, but hey, what do we know? We wouldn’t be surprised if somebody eventually sues this platform on the grounds that they were misled to believe they actually owned the tweet. That they paid a lot of money because they thought they were going to own this tweet, and that they don’t, and therefore they were cheated. Then attorneys will get involved and they will exchange briefs arguing back and forth whether who owns what was clearly communicated or not. You heard it here first.

This whole ownership issue is real. What do you own when you own a moment on Top Shot, for example? There are also important copyright questions. This is obviously not legal advice, but NFT platforms should make sure they are fully transparent about what their collectors are buying.

Thorny legal issues around ownership aside, let’s discuss our pet peeve, which is this view: Everything and anything that can be sold is now an investment. This is what the Valuables FAQ says:

Owning any digital content can be a financial investment.”

This is one of the greatest myths of all time and is arguably the real liability for people and platforms that make these types of claims. 

Remember, you can only invest in a financial asset. The phrase digital asset is being tossed around, but nobody is quite sure what that means. That is the starting point of all disputes.

Anything that can be priced can arguably be converted to money, and as such it can be an asset on a balance sheet. Your personal balance sheet could include USD, GBP and some Bitcoin. But none of these are investments, they are currencies, or in the case of Bitcoin, currency wannabes. There are real questions around whether Bitcoin can ever replace the USD. Treasury Secretary Janet Yellen did not think so. Fed Chairman Jerome Powell did not think so, noting Bitcoin is perhaps a gold replacement, but not a USD replacement. Ray Dalio went even further and discussed the possibility of Bitcoin being potentially outlawed. No matter where you stand on the future of Bitcoin from a currency perspective, one thing is clear; it is not a financial asset because it does not produce any cash flows. As such, one can speculate on it, but not invest in it. 

We are all talking past one another. We can do better as a society, especially in the middle of a pandemic. The subscribers of the “Bitcoin is an asset” school are either i) defining assets broadly with a balance sheet in mind, or ii) know very well Bitcoin is not a financial asset but they play along because it is financially beneficial for them. Of course, not everybody who makes this claim has bad intentions, but not all of them have good intentions either. 

Thus, when you scroll to the last question on the Valuables FAQ,  you need to read it in that context:

What is an NFT?

NFTs make digital content one-of-a-kind: you will be the only person who can claim ownership of an NFT that you own. This means you will have control of the NFT, like the ability to resell or distribute it, and it will appreciate or depreciate in value just like any other asset.

As a matter of a balance sheet item, sure. Its price can go up or down depending on supply and demand. But it does not belong to your investment portfolio. There are, of course, people saying quite the opposite:

I know you're not an investment advisor. But how would a new investor go about putting money in Bitcoin, which is pretty hot right now?

Only put in what you'd be prepared to lose. Some of the serious career investors that have warmed to crypto are advocating starting with just 2 percent to 5 percent of your portfolio. That makes sense to me. It is becoming accepted as another standard asset type to have in your portfolio along with equities, bonds, metals and ETFs or themed baskets.

If you hear stuff like this, question it. The advice around putting in what you can afford to lose is always a solid one for any speculative trade. The rest is nothing but total confusion about what a portfolio, asset and investing really mean. 

The lack of consensus on terminology is worse than you think. Even people at the top end of the academic totem pole use language that might be perceived as misleading or have an outright misunderstanding. Newsweek questioned whether Bitcoin is too big to fail. The piece quoted Raghuram Rajan, a finance professor at the University of Chicago Booth School of Business:

Rajan now says that bitcoin and other cryptocurrencies "are seen increasingly as an asset class which is valued simply because others value it. To that extent, it has some features of what economists call a bubble—something that is valuable only because everybody else thinks it's valuable. Which means that it has the potential for volatility. As people become less enthusiastic about it, its value could fall considerably."

Rajan is as decorated as one can become, and he is spot on, almost. The one thing we disagree on is labeling Bitcoin as a bubble. The way we view it, a bubble is a substantial mispricing relative to the value of the asset (with the price being higher than the value); it is an asset pricing concept. Pseudo-assets like Bitcoin cannot be valued, so we have no idea whether it is a bubble or not. The concept of a bubble simply does not apply.

The finance literature has a better phrase for this type of situation: Greater Fool Theory. We recommend that you take a listen to the Oracle of Omaha

Another point of disagreement: gold. Here is Rajan’s view:

Bitcoin, says Rajan, does not have "intrinsic fundamental value as you might have in say, gold."

True for Bitcoin. But does gold really have intrinsic value? What is it? Unless Rajan is thinking of the limited use of gold as an input to the production process, we side again with Warren Buffett on this one. 

But wait, assets generate cash flows right? If there are cash flows, a value can be calculated and a decision can be made whether or not an asset is overvalued (price > value) or undervalued (price < value).  Then, all of that analysis can lead to an investment decision. 

What if an NFT can actually generate cash flows? 

Remember, any balance sheet asset can turn into a financial asset once a counterparty is found who is willing to pay for access. Real estate is a balance sheet asset that becomes a financial asset once rented out. IP is a balance sheet asset (unless self-developed) that collects royalties when it is licensed to a counterparty. Access to cash means interest will be paid. Can an NFT become something that somebody else will pay to access?

Part of the problem is that an NFT is already a type of license. A Top Shot highlight is not owned by the collector, it is owned by the NBA. What the collector owns is a digital certificate that is the tokenized version of that highlight. Can that be rented out to somebody else? Maybe. If these Top Shot moments become building blocks in a game, presumably there might be a more active trading market, where you can rent out your pieces to others. Then, whether to buy a Moment could become an investment decision.

We are not there yet. For now, creators are really the only ones that potentially have a claim on some cash flows and they have this claim after they part with the NFT. Valuables FAQ says:

Where does the money go?

95% goes to the original tweet creator. 5% goes to running Valuables by Cent. 

For secondary sales, 87.5% goes to the seller, 10% goes to the creator, and 2.5% goes to Cent.

This is interesting. Subsequent trading is good news for the creator, he effectively earns a commission on each trade. What is good news for the creator is bad news for the collector. Imagine the creator mints a tweet into an NFT and sells it for $100. The creator gets $95 and Valuables gets $5. The buyer is immediately underwater because if he sells it at $100, he will pay not only the transaction fee of 2.5% (which is on the high side), but also a 10% commission to the creator. Even if he can sell it at $110, which in the stock market would be a fascinating return, he is still underwater. If the seller has no interest in selling, fine, that’s what collectibles are for. That’s how it all started after all. 

An “investment” though? Nah. The way it is designed, the creator is the only person who will ever get cash flows, so the NFT itself is not an asset. Therefore, this can only be a speculative move. But if this is a speculative move, it doesn’t seem like the most intelligent way to speculate. Finding a buyer is not enough; the buyer should also price the NFT substantially higher than you do. Or said differently, finding a slightly greater fool is not enough, it needs to be a substantially greater fool.